Tag Archives: Home Ownership

Decoding Media Speak & What You Can Do About It

Just recently, the Institutional Investor website published a brilliant piece entitled “Asset Manager B.S. Decoded.”

“The investment chief for one institution-sized single-family fortune decided to put pen to paper, translating these overused phrases, sales jargon, and excuses into plain — and satirical — English.”

A Translation Guide to Asset Manager-Speak

  • Now is a good entry point = Sorry, we are in a drawdown
  • We have a high Sharpe ratio = We don’t make much money
  • We have never lost money = We have never made money
  • We have a great backtest = We are going to lose money after we take your money
  • We have a proprietary sourcing approach = We invest in whatever our hedge fund friends do
  • We are not in crowded positions = We missed all the best-performing stocks
  • We are not correlated = We are underperforming while the market keeps going up
  • We invest in unique uncorrelated assets = We have an illiquid portfolio which can’t be valued and will suspend soon
  • We are soft-closing the fund = We want to raise as much money as we can right now
  • We are hard-closing the fund = We are definitely open for you
  • We are not responsible for the bad track record at our prior firm = We lost money but are blaming all our ex-colleagues
  • We have a bottom-up approach = We have no idea what markets are going to do
  • We have a top-down process = We think we know what markets will do but really who does?
  • The markets had a temporary mark-to-market loss = Our fundamental analysis was wrong and we don’t know why we lost money
  • We don’t believe in stop-loss limits = We have no risk management

Wall Street is a business.

The “business” of any business is to make a profit. Wall Street makes profits by building products to sell you, whether it is the latest “fad investment,” an ETF, or bringing a company public. While Wall Street tells you they are “here to help you grow your money,” three decades of Wall Street shenanigans should tell you differently.

I know you probably don’t believe that, but here is a survey that was done of Wall Street analysts. It is worth noting where “you” rank in terms of their concern, and compensation.

Not surprisingly, you are at the bottom of the list.

While the translation is satirical, it is also more than truthful. Investors are often told what they “want” to hear, but actual actions are always quite different, along with the eventual outcomes.

So, what can you do about it?

You can take actions to curb those emotional biases which lead to eventual impairments of capital. The following actions are the most common mistakes investors repeatedly make, mostly by watching the financial media, and what you can do instead.

1) Refusing To Take A Loss – Until The Loss Takes You.

When you buy a stock it should be with the expectation that it will go up – otherwise, why would you buy it?. If it goes down instead, you’ve made a mistake in your analysis. Either you’re early, or just plain wrong. It amounts to the same thing.

There is no shame in being wrongonly in STAYING wrong.

This goes to the heart of the familiar adage: “let winners run, cut losers short.”

Nothing will eat into your performance more than carrying a bunch of dogs and their attendant fleas, both in terms of actual losses and in dead, or underperforming, money.

2) The Unrealized Loss

From whence came the idiotic notion that a loss “on paper” isn’t a “real” loss until you actually sell the stock? Or that a profit isn’t a profit until the stock is sold and the money is in the bank? Nonsense!

Your portfolio is worth whatever you can sell it for, at the market, right at this moment. No more. No less.

People are reluctant to sell a loser for a variety of reasons. For some, it’s an ego/pride thing, an inability to admit they’ve made a mistake. That is false pride, and it’s faulty thinking. Your refusal to acknowledge a loss doesn’t make it any less real. Hoping and waiting for a loser to come back and save your fragile pride is just plain stupid.

Realize that your loser may NOT come back. And even if it does, a stock that is down 50% has to put up a 100% gain just to get back to even. Losses are a cost of doing business, a part of the game. If you never have losses, then you are not trading properly.

Take your losses ruthlessly, put them out of mind and don’t look back, and turn your attention to your next trade.

3) More Risk

It is often touted the more risk you take, the more money you will make. While that is true, it also means the losses are more severe when the tide turns against you.

In portfolio management, the preservation of capital is paramount to long-term success. If you run out of chips the game is over. Most professionals will allocate no more than 2-5% of their total investment capital to any one position. Money management also pertains to your total investment posture. Even when your analysis is overwhelmingly bullish, it never hurts to have at least some cash on hand, even if it earns nothing in a “ZIRP” world.

This gives you liquid cash to buy opportunities and keeps you from having to liquidate a position at an inopportune time to raise cash for the “Murphy Emergency:”

This is the emergency that always occurs when you have the least amount of cash available – (Murphy’s Law #73)

4) Bottom Feeding Knife Catchers

Unless you are really adept at technical analysis, and understand market cycles, it’s almost always better to let the stock find its bottom on its own, and then start to nibble. Just because a stock is down a lot doesn’t mean it can’t go down further. In fact, a major multi-point drop is often just the beginning of a larger decline. It’s always satisfying to catch an exact low tick, but when it happens, it’s usually by accident. Let stocks and markets bottom and top on their own and limit your efforts to recognizing the fact “soon enough.”

Nobody, and I mean nobody, can consistently nail the bottom or top ticks. 

5) Averaging Down

Don’t do it. For one thing, you shouldn’t even have the opportunity, as a failing investment should have already been sold long ago.

The only time you should average into any investment is when it is working. If you enter a position on a fundamental or technical thesis, and it begins to work as expected, thereby confirming your thesis to be correct, it is generally safe to increase your stake in that position, on the way up.

6) Don’t Fight The Trend

Yes, there are stocks that will go up in bear markets and stocks that will go down in bull markets, but it’s usually not worth the effort to hunt for them. The vast majority of stocks, some 80+%, will go with the market flow. And so should you.

It doesn’t make sense to counter trade the prevailing market trend. Don’t try and short stocks in a strong uptrend and don’t own stocks that are in a strong downtrend. Remember, investors don’t speculate – “The Trend Is Your Friend”

7) A Good Company Is Not Necessarily A Good Stock

There are some great companies that are mediocre stocks, and some mediocre companies that have been great stocks over a short time frame. Try not to confuse the two.

While fundamental analysis will identify great companies, it doesn’t take into account market and investor sentiment. Analyzing price trends, a view of the “herd mentality,” can help in the determination of the “when” to buy a great company that is also a great stock.

8) Technically Trapped

Amateur technicians regularly fall into periods where they tend to favor one or two indicators over all others. No harm in that, so long as the favored indicators are working, and keep on working.

But always be aware of the fact that as market conditions change, so will the efficacy of indicators. Indicators that work well in one type of market may lead you badly astray in another. You have to be aware of what’s working now and what’s not, and be ready to shift when conditions change.

There is no “Holy Grail” indicator that works all the time and in all markets. If you think you’ve found it, get ready to lose money. Instead, take your trading signals from the “accumulation of evidence” among ALL of your indicators, not just one.

9) The Tale Of The Tape

I get a kick out of people who insist that they’re long-term investors, buy a stock, then anxiously ask whether they should bail the first time the stocks drops a point or two. More likely than not, the panic was induced by listening to financial television.

Watching “the tape” can be dangerous. It leads to emotionalism and hasty decisions. Try not to make trading decisions when the market is in session. Do your analysis and make your plan when the market is closed. Turn off the television, get to a quiet place, and then calmly and logically execute your plan.

10) Worried About Taxes

Don’t let tax considerations dictate your decision on whether to sell a stock.  Pay capital gains tax willingly, even joyfully. The only way to avoid paying taxes on a stock trade is to not make any money on the trade.

“If you are paying taxes – you are making money…it’s better than the alternative”

Conclusion

Don’t confuse genius with a bull market. It’s not hard to make money in a roaring bull market. Keeping your gains when the bear comes prowling is the hard part. The market whips all our butts now and then, and that whipping usually comes just when we think we’ve got it all figured out.

Managing risk is the key to survival in the market and ultimately in making money. Focus on managing risk, market cycles and exposure.

The law of change states: Change will occur, and the elements in the environment will adapt or become extinct, and that extinction in and of itself is a consequence of change. 

Therefore, even if you are a long-term investor, you have to modify and adapt to an ever-changing environment otherwise, you will become extinct.

To navigate through this complex world, we suggest investors need to be open-minded, avoid concentrated risks, be sensitive to early warning signs, constantly adapt and always prepare for the worst.” – Tim Hodgson, Thinking Ahead Institute

Investing is not a competition.

It is a game of long-term survival.

Start by turning off the mainstream financial media. You will be a better investor for it.

I hope you found this helpful.

Rising Rates Are Killing The Housing Market

Earlier this year, I penned an article entitled “The Coming Collision Of Debt & Rates” which discussed the 10-areas that rising interest rates would impact most directly. Number two on that list was housing:

“Rising interest rates slow the housing market as people buy payments, not houses, and rising rates mean higher payments.”

The housing recovery is ultimately a story of the “real” employment situation. With roughly a quarter of the home buying cohort unemployed and living at home with their parents, the option to buy simply is not available.  Another large chunk of that group are employed but at the lower end of the pay scale which pushes them to rent due to budgetary considerations and an inability to qualify for a mortgage.

(For more housing charts click here)

Even after a “decade of recovery,” the full-time employment-to-population ratios remain well below levels normally associated with a strong economy, and wage growth remains stagnant. Both of which makes home affordability an issue.

Despite much of the media rhetoric to the contrary, I have warned repeatedly that rising rates would negatively impact the housing market which was still being supported by low interest rates.

The mistake that mainstream analysts made was in the assumption that the recent increases in real estate prices were largely driven by first time home buyers creating an organic market. The reality, however, has been that market increases were being driven by speculators in the “buy to rent” game. As I noted previously:

“As the “Buy-to-Rent” game drives prices of homes higher, it reduces inventory and increases rental rates. This in turn prices out “first-time home buyers” who would become longer-term homeowners, hence the low rates of homeownership rates noted above. The chart below shows the number of homes that are renter-occupied versus the seasonally adjusted homeownership rate.”

“Speculators have flooded the market with a majority of the properties being paid for in cash and then turned into rentals. This activity drives the prices of homes higher, reduces inventory and increases rental rates which prices ‘first-time homebuyers’ out of the market.

The recent rise in the home-ownership rate, and subsequent decline in renter-occupied housing, may an early sign of rental investors, aka hedge funds, beginning to exit the market. If rates rise further, raising borrowing costs, there could be a ‘rush for the exits’ as the herd of speculative buyers turn into mass sellers. If there isn’t a large enough pool of qualified buyers to absorb the inventory, there will be a sharp reversion in prices.”

You can see that a bulk of the real estate activity has occurred at the price levels of homes that make the best rental properties – between $200,000 and $400,000.

Importantly, you can see activity has dropped sharply over the course of the last couple of months. This is particularly the case at the very high-end and very low-end of the spectrum.

The latest data on existing and new home sales, permits, and completions show that we have likely seen the peak from the bounce in housing activity that started in 2010. It is important to remember, as we have discussed previously, that there are only a certain number of individuals that, at any given time, are actively seeking to ‘buy’ or ‘sell’ a home in the market. Furthermore, individuals buy “payments,” not “houses,” so artificially suppressed interest rates are only half of the payment equation. When home prices increase to levels that begin to price buyers out of the market – activity will slow.

The chart below is our Total Housing Activity Index which simply combines the 4-primary components of the housing market cycle – permits, completions, and sales of new and existing homes.

You will notice the last time the activity index broke is rising trend, the subsequent decline was not healthy. More importantly, both the current, and previous, “housing bubble” preceded the peak in household net worth.

In both cases, the “pin that pricked the bubble” was interest rates. As shown below, when mortgage rates rise housing activity slows as “people buy payments” rather than houses. This is because higher rates have two immediate impacts on the housing market:

  1. The monthly payment rises to a level that buyers can’t afford, or;
  2. Buyers stop their activity to “wait and see” if rates come back down again. 

The monthly mortgage payment required for a loan has risen about 12% over the last three years as mortgage rates rose approximately 1%. The simply put houses out of reach for a vast majority of Americans already living from one paycheck to the next.

As a result, and shown below, the annual growth rate of housing activity is back into negative territory.

However, it is really how many of those “permits” turn into “completions” that matter. Currently, that ratio is sending an important warning which is suggesting more troubles ahead for the housing market as “permits” are being pulled due to lack of demand.

At The Margin

Another “Damocles Sword” hanging over the mortgage industry is that rising interest rates will continue to kill the “refinance market.” Banks and mortgage-related companies have made huge profits over the last couple of decades as homeowners serially refinanced their homes to take out cash and refinance at a lower mortgage rate. That activity has largely ceased as a result of higher rates. We are now seeing default risk rise as adjustable rate credit lines on home equity loans begin to exceed homeowners ability to service the debt.

Furthermore, individuals were previously able to sell their existing home and “upgrade” to a newer or larger home. That upgrade was afforded by extremely low interest rates. Now, as rates rise, the “trade up” activity will greatly diminish as individuals become locked into their existing homes.

Housing is always a function of what happens at the “margins” with the activity contained to those actively searching to buy a house versus those willing, or able, to sell. But in order for MOST individuals to engage in the housing market, they need a mortgage to do so. As rates rise, that activity slows.

There is no argument that housing has indeed improved from the depths of the housing crash in 2010. However, that recovery still remains at very weak historical levels and the majority of drivers used to get it this point have begun to fade. Furthermore, and most importantly, much of the recent analysis assumes this has been a natural, and organic, recovery.

Nothing could be further from the truth as analysts have somehow forgotten the trillions of dollars, and regulatory support, infused to generate that recovery. We must also remember that record low mortgage rates driven by Fed purchases of Mortgages Backed Securities (MBS) played a large role in the recovery.

Homebuilder sentiment has gone well beyond the actual level of activity. The recent turn lower is bringing that over-confidence back to reality and with that expect to see a decline in new permits and likely rise in the unemployment rate of those involved in the housing sector.

For the housing market, the recent rise in interest rates is extremely important.  There are many hopes pinned on housing activity continuing to foster the domestic economic recovery. If rates do indeed pop the current housing “bubble,” the entire economic recovery thesis will be called into question.

While the Fed has repeatedly noted the strength of the economy as a central underpinning for continuing to hike rates and tighten monetary policy, it is quite likely the damage from rising rates has already been done. Such was noted yesterday when Fed Chair Jerome Powell reversed his position on hiking rates and changed the language to suggest they were close to finished.

But the Fed’s change of tone may just be “too little, too late” as the negative impacts of increased borrowing costs with respect to both auto loans and housing have already become evident. It is only a function of time until the broader economic indicators feel the pinch.

Common Trading Mistakes Investors Must Avoid

The recent stock market correction, and subsequent rally, revealed the many mistakes that investors consistently make when managing their money. Emotionally driven decisions almost always turn out badly and ultimately impair the long-term investment goals individuals are attempting to achieve.

Given that individuals are consistently promised investing in the financial markets is the only way to financial success, it is worthwhile to review the common mistakes most investors make. After all, if investing is “so easy,” why are the majority of American’s so broke?

Let’s dig into the myths, the mistakes and the steps to redemption. 

Financial pundits across the country consistently promote the myth that one simply buys a basket of ETF’s, or individual stocks, and returns will compound at 8, 10 or 12% a year,

Nothing could be further from the truth.

On a nominal basis, it is true that if one bought an index, and held it for 20-years, they would have most likely made money. Unfortunately, making money, and reaching financial goals, are two ENTIRELY different things.

“The chart below shows the difference between two identical accounts. Each started at $100,000, each had $625/month in additions and both were adjusted for inflation and total returns. The purple line shows the amount of money required, inflation-adjusted, to provide a $75,000 per year income to Bob at a 3% yield. The only difference between the two accounts is that one went to “cash” when the S&P 500 broke the 12-month moving average in order to avoid major losses of capital.”

For the majority of Americans, investing has never worked as promised.

The problem, as I have discussed many times previously, is that most individuals cannot manage their own money because of ‘short-termism.’

Despite their inherent belief that they are long-term investors, they are consistently swept up in the short-term movements of the market. Of course, with the media and Wall Street pushing the ‘you are missing it’ mantra as the market rises – who can really blame the average investor ‘panic’ buying market tops and selling out at market bottoms.”

Sy Harding summed this point up in his excellent book “Riding The Bear:”

“No such creature as a buy and hold investor ever emerged from the other side of the subsequent bear market.”

Statistics compiled by Ned Davis Research back up Harding’s assertion. Every time the market declines more than 10% (and “real” bear markets don’t even officially begin until the decline is 20%), mutual funds experienced net outflows of investor money. Fear is a stronger emotion than greed.

The research shows that it doesn’t matter if the bear market lasts less than 3 months (like the 1990 bear) or less than 3 days (like the 1987 bear). People will still sell out, usually at the very bottom, and almost always at a loss.

The only way to avoid the “buy high/sell low” syndrome –  is to avoid owning stocks during bear markets. If you try to ride a bear market out, odds are you’ll fail.

And if you believe that we are in a new era where Central Bankers have eliminated bear market cycles, your next of kin will have my sympathies.

Let’s look at some of the more common trading mistakes to which people are prone. Over the years, I’ve committed every sin on the list at least once and still do on occasion. Why? Because I am human too.

1) Refusing To Take A Loss – Until The Loss Takes You.

When you buy a stock it should be with the expectation that it will go up – otherwise, why would you buy it?. If it goes down instead, you’ve made a mistake in your analysis. Either you’re early, or just plain wrong. It amounts to the same thing.

There is no shame in being wrongonly in STAYING wrong.

This goes to the heart of the familiar adage: “let winners run, cut losers short.”

Nothing will eat into your performance more than carrying a bunch of dogs and their attendant fleas, both in terms of actual losses and in dead, or underperforming, money.

2) The Unrealized Loss

From whence came the idiotic notion that a loss “on paper” isn’t a “real” loss until you actually sell the stock? Or that a profit isn’t a profit until the stock is sold and the money is in the bank? Nonsense!

Your portfolio is worth whatever you can sell it for, at the market, right at this moment. No more. No less.

People are reluctant to sell a loser for a variety of reasons. For some, it’s an ego/pride thing, an inability to admit they’ve made a mistake. That is false pride, and it’s faulty thinking. Your refusal to acknowledge a loss doesn’t make it any less real. Hoping and waiting for a loser to come back and save your fragile pride is just plain stupid.

Realize that your loser may NOT come back. And even if it does, a stock that is down 50% has to put up a 100% gain just to get back to even. Losses are a cost of doing business, a part of the game. If you never have losses, then you are not trading properly.

Take your losses ruthlessly, put them out of mind and don’t look back, and turn your attention to your next trade.

3) More Risk

It is often touted that they more risk you take, the more money you will make. While that is true, it also means the losses are more severe when the tide turns against you.

In portfolio management, the preservation of capital is paramount to long-term success. If you run out of chips the game is over. Most professionals will allocate no more than 2-5% of their total investment capital to any one position. Money management also pertains to your total investment posture. Even when your analysis is overwhelmingly bullish, it never hurts to have at least some cash on hand, even if it earns nothing in a “ZIRP” world.

This gives you liquid cash to buy opportunities and keeps you from having to liquidate a position at an inopportune time to raise cash for the “Murphy Emergency:”

This is the emergency that always occurs when you have the least amount of cash available – (Murphy’s Law #73)

If investors are supposed to “sell high” and “buy low,” such would suggest that as markets become more overbought, overextended, and overvalued, cash levels should rise accordingly. Conversely, as markets decline and become oversold and undervalued, cash levels should decline as equity exposure is increased.

Unfortunately, such has never actually been the case.

4) Bottom Feeding Knife Catchers

Unless you are really adept at technical analysis, and understand market cycles, it’s almost always better to let the stock find its bottom on its own, and then start to nibble. Just because a stock is down a lot doesn’t mean it can’t go down further. In fact, a major multi-point drop is often just the beginning of a larger decline. It’s always satisfying to catch an exact low tick, but when it happens it’s usually by accident. Let stocks and markets bottom and top on their own and limit your efforts to recognizing the fact “soon enough.”

Nobody, and I mean nobody, can consistently nail the bottom tick or top tick. 

5) Averaging Down

Don’t do it. For one thing, you shouldn’t even have the opportunity, as a failing investment should have already been sold long ago.

The only time you should average into any investment is when it is working. If you enter a position on a fundamental or technical thesis, and it begins to work as expected thereby confirming your thesis to be correct, it is generally safe to increase your stake in that position.

6) You Can’t Fight City Hall OR The Trend

Yes, there are stocks that will go up in bear markets and stocks that will go down in bull markets, but it’s usually not worth the effort to hunt for them. The vast majority of stocks, some 80+%, will go with the market flow. And so should you.

It doesn’t make sense to counter trade the prevailing market trend. Don’t try and short stocks in a strong uptrend and don’t own stocks that are in a strong downtrend. Remember, investors don’t speculate – “The Trend Is Your Friend”

7) A Good Company Is Not Necessarily A Good Stock

There are some great companies that are mediocre stocks, and some mediocre companies that have been great stocks over a short time frame. Try not to confuse the two.

While fundamental analysis will identify great companies it doesn’t take into account market, and investor, sentiment. Analyzing price trends, a view of the “herd mentality,” can help in the determination of the “when” to buy a great company which is also a great stock.

8) Technically Trapped

Amateur technicians regularly fall into periods where they tend to favor one or two indicators over all others. No harm in that, so long as the favored indicators are working, and keep on working.

But always be aware of the fact that as market conditions change, so will the efficacy of indicators. Indicators that work well in one type of market may lead you badly astray in another. You have to be aware of what’s working now and what’s not, and be ready to shift when conditions change.

There is no “Holy Grail” indicator that works all the time and in all markets. If you think you’ve found it, get ready to lose money. Instead, take your trading signals from the “accumulation of evidence” among ALL of your indicators, not just one.

9) The Tale Of The Tape

I get a kick out of people who insist that they’re long-term investors, buy a stock, then anxiously ask whether they should bail the first time the stocks drops a point or two. More likely than not, the panic was induced by listening to financial television.

Watching “the tape” can be dangerous. It leads to emotionalism and hasty decisions. Try not to make trading decisions when the market is in session. Do your analysis and make your plan when the market is closed. Turn off the television, get to a quiet place, and then calmly and logically execute your plan.

10) Worried About Taxes

Don’t let tax considerations dictate your decision on whether to sell a stock.  Pay capital gains tax willingly, even joyfully. The only way to avoid paying taxes on a stock trade is to not make any money on the trade.

“If you are paying taxes – you are making money…it’s better than the alternative”

Steps to Redemption

Don’t confuse genius with a bull market. It’s not hard to make money in a roaring bull market. Keeping your gains when the bear comes prowling is the hard part. The market whips all our butts now and then, and that whipping usually comes just when we think we’ve got it all figured out.

Managing risk is the key to survival in the market and ultimately in making money.  Leave the pontificating to the talking heads on television. Focus on managing risk, market cycles and exposure.

STEP 1: Admit there is a problem… The first step in solving any problem is to realize that you have a problem and be willing to take the steps necessary to remedy the situation

STEP 2: You are where you are It doesn’t matter what your portfolio was in March of 2000, March of 2009 or last Friday.  Your portfolio value is exactly what it is rather it is realized or unrealized.  The loss is already lost and understanding that will help you come to grips with needing to make a change.

STEP 3:  You are not a loser… You made an investment mistake. You lost money. It has happened to every person that has ever invested in the stock market and anyone who says otherwise is a liar!

STEP 4:  Accept responsibility… In order to begin the repair process, you must accept responsibility for your situation. Continue to postpone the inevitable only leads to suffering further consequences of inaction.  

STEP 5:  Understand that markets change… Markets change due to a huge variety of factors from interest rates to currency risks, political events to geo-economic challenges. Does it really make sense to buy and hold a static allocation in a dynamic environment?

The law of change states:  that change will occur and the elements in the environment will adapt or become extinct and that extinction in and of itself is a consequence of change. 

Therefore, even if you are a long-term investor, you have to modify and adapt to an ever-changing environment otherwise, you will become extinct.

STEP 6:  Ask for help… Don’t be afraid to ask or get help – yes, you may pay a little for the service but you will save a lot more in the future from not making costly investment mistakes.

STEP 7:  Make change gradually… Making changes to a portfolio should be done methodically and patiently. Portfolio management is more about “tweaking” performance rather than doing a complete “overhaul.”

STEP 8:  Develop a strategy… A goal-based investment strategy looks at goals like retirement, college funding, new house, etc. and matches investments and investment vehicles in an orderly and designed portfolio to achieve those goals in quantifiable and identifiable destinations. The duration of your portfolio should match the “time” frame to your goals. Building an allocation on 80-year average returns when you have a 15-year retirement goal will likely leave you in a very poor position. 

STEP 9:  Learn it…Live it…Love it… Every move within your investment strategy must have a reason and purpose, otherwise, why do it? Adjustments to the plan, and the investments made, should match performance, time and value horizons. Most importantly, you must be committed to your strategy so that you will not deviate from it in times of emotional duress. 

STEP 10:  Live your life… The whole point of investing in the first place is to ensure a quality of life at some specific point in the future. Therefore, while you work hard to earn your money today, it is important that your portfolio works just as hard to earn your money for tomorrow.

I hope you found this helpful.

Housing Recovery? Or Another Fed Driven Inflation?

Last week, John Coumarianos penned an interesting piece discussing the surge in home prices over the last few months. To wit:

“The psychological factors are harder to assess. People aren’t flipping condos for sport the way they were during the bubble when mortgages were available to anyone regardless of whether they had income or assets. Yet it seems there’s a widespread desire to own assets – stocks, bonds, and real estate – regardless of price. It’s not an obviously happy mania, where people are motivated by promises of great wealth. It’s more like a need to be an asset owner in an economy that continues to hurt workers without college degrees and becomes more automated. Nevertheless, the price insensitivity of many buyers is enough to cause concern.”

He is right.

Low rates, weak economic growth, cheap and available credit, and a need for income has inflated the third bubble of this century.

John makes a very interesting point of the potential for the recent bump in housing numbers to be part of the global asset chase.

While, there has been much hoped placed on the “housing recovery story” over the last few years, the hopes of a stronger housing-driven economic recovery has failed to emerge. But, in just the last few months, there has been, at last, an uptick in some of the data.

Is the improvement the beginning of “the” long-awaited housing recovery? Or, is it just the final inflation of a combined asset bubble driven by excess liquidity, cheap credit and a “yield chase” of epic proportions? 

Let’s look at the data.

At The Margin

The problem with much of the mainstream analysis is that it is based on the transactional side of housing which only represents what is happening at the “margin.”  The economic importance of housing is much more than just the relatively few number of individuals, as compared to the total population, that are actively seeking to buy, rent or sell a home each month.

To understand what is happening in terms of “housing,” we must analyze the “housing market” as a whole rather than what is just happening at the fringes. For this analysis, we can use the data published by the U.S. Census Bureau which can be found here.

Total Housing Units

In an economy that is roughly 70% driven by consumption, it is grossly important that the working age population is, well, working.  More importantly, as discussed in “Yellen, Employment & Policy Errors

“This also explains why the labor force participation rate, of those that SHOULD be working (16-54 years of age), remains at the lowest levels since the early 1980’s. This chart alone should give Ms. Yellen pause in her estimations on the strength of the underlying economy.”

To present some context for the following analysis, we must first have some basis from which to work from. Our baseline for this analysis will be the number of total housing units which, as of Q4-2017, was 136,912,000 units. The chart below shows the historical progression of the seasonally adjusted number of housing units in the United States.

(Note: Importantly, despite data released by the marketing arms of the real estate which suggests that millions of units are being built each year. The reality is that from Q1 of 2009 until Q4 of 2017, there has been a TOTAL increase of just 5,911,000 units. This equates to an average increase of just 657,000 units per year.)

During that same period, the population of the U.S. grew by over 21,125.000 or an average of 2.35 million people per year. More importantly, since in order to own a home, one must have a job, those counted as having a job grew by almost 17-million during the same period.

Rising employment and population growth are strong drivers for the housing sector. After all, people have to live somewhere, right? But when we take a look at what homes are being sold, we see a deterioration in the percentage of homes being sold to those that comprise 80% of income and wage earners and an increase in those that belong to the top 20%. 

Furthermore, there continues to be far more houses in the “process” stage (permits, starts and completions) than actual homes being sold.

This activity at “the margin” is further obfuscated by the seasonal adjustment, and annualization, of the data in the monthly reports. However, by analyzing the Census Bureau data of how many homes are sitting vacant, owner-occupied or being rented, we can obtain a much clearer picture of the real strength of the housing market and the purported recovery.

Vacancy Rate

Out of the total number of housing units, some are vacant for a variety of reasons. They are second homes for some people that are only used occasionally. They are being held off-market for one reason or another (foreclosure, short sell, etc.), or they are for sale or rent. The chart below shows the total number of homes, as a percentage of the total number of housing units which are currently vacant.

If a real housing recovery were underway, the vacancy rate would be falling sharply rather than hovering only 0.5% below its all-time peak levels.

Owner Occupied Housing

Another sign that a “real” housing recovery was underway would be an increase in actual home-ownership. The chart below shows the number of owner-occupied houses as a percentage of the total number of housing units available. See the problem here?

There are two important points here.

The first is the recent uptick in “occupied” housing doesn’t equate with the reported rise in home sales shown above.

Secondly, while owner-occupied housing as finally ticked up, it coincides with the recent jump in interest rates which is likely forcing buyers into the market temporarily. However, since rates have everything to do with “payments,” the bounce is likely ephemeral if rates do indeed rise further.

Home Ownership

The reality is that there has been little recovery in housing. With nine years of economic recovery now in the rearview mirror, it is clear that the average American is not recovering as evidenced by the lowest level of home ownership since the 1980’s. The recent uptick, as stated above, coincides with a sharp acceleration in debt as interest rates have begun to pressure buyers.

However, the recent reports of sales, starts, permits, and completions have all certainly improved in recent months. Those transactions must be showing up somewhere, right? 

Buy To Rent

As John notes, prices are rapidly rising in the “hotbed” areas. As the “Buy-to-Rent” game drives prices of homes higher, it reduces inventory and increases rental rates. This in turn prices out “first-time home buyers” who would become longer-term homeowners, hence the low rates of homeownership rates noted above. The chart below shows the number of homes that are renter-occupied versus the seasonally adjusted homeownership rate.

Speculators have flooded the market with a majority of the properties being paid for in cash and then turned into rentals. This activity drives the prices of homes higher, reduces inventory and increases rental rates which prices “first-time homebuyers” out of the market.

The recent rise in the home-ownership rate, and subsequent decline in renter-occupied housing, may an early sign of rental investors, aka hedge funds, beginning to exit the market. If rates rise further, raising borrowing costs, there could be a “rush for the exits” as the herd of speculative buyers turn into mass sellers. If there isn’t a large enough pool of qualified buyers to absorb the inventory, there will be a sharp reversion in prices.

There is no argument that housing has indeed improved from the depths of the housing crash in 2010. However, that recovery still remains at very weak historical levels and the majority of drivers used to get it this point have begun to fade. Furthermore, and most importantly, much of the recent analysis assumes this has been a natural, and organic, recovery. Nothing could be further from the truth as analysts have somehow forgotten the trillions of dollars, and regulatory support, infused to generate that recovery. More importantly, homebuilder sentiment has gone well beyond the actual level of activity.

The point here is that while the housing market has recovered – the media should be asking ‘Is that all the recovery there is?’

The housing recovery is ultimately a story of the “real” unemployment situation that still shows that roughly a quarter of the home buying cohort are unemployed and living at home with their parents. The remaining members of the home buying, household formation, contingent are employed but at lower ends of the pay scale and are choosing to rent due to budgetary considerations. This explains why the 12-month moving average of household formation, used to smooth very volatile data, is near its lowest levels going back to 1955.

While the “official” unemployment rate suggests that the U.S. is at full employment, the roughly 94-million individuals sitting outside the labor force would likely disagree. Furthermore, considering that those individuals make up roughly 50% of the 16-54 aged members of the workforce, it is no wonder that they are being pushed to rent due to budgetary considerations and an inability to qualify for a mortgage.

The risk to the housing recovery story remains in the Fed’s ability to continue to keep interest rates suppressed. As stated above, individuals “buy payments” rather than houses, so each tick higher in mortgage rates reduces someone’s ability to meet the monthly mortgage payment. With wages remain suppressed, and a large number of individuals either not working or on Federal subsidies, the pool of potential buyers remains contained.

The real crisis is NOT a lack of homes for people to buy, just the lack wage growth to be able to afford to. Of course, that probably says more about the “real economy” than just about anything else.